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Understanding the Time Value of Money (TVM)

Money has a time value — a dollar today is worth more than a dollar tomorrow.
This idea is the foundation of Net Present Value vs Present Value comparison, because both depend on how we value money over time.
Money today can earn interest, be invested, or generate returns. This principle is called the Time Value of Money (TVM), and it forms the base for understanding Present Value (PV) and Net Present Value (NPV).

Example of Time Value of Money

If you have $1,000 today and invest it at 10% annual return, after one year you’ll have $1,100.
That means $1,000 today = $1,100 next year.
So if someone offers you $1,100 next year, its present value is $1,000 today.

This helps you understand why comparing Net Present Value vs Present Value is essential in investment decisions.

Time value of Money

What Is Present Value (PV)?

Present Value (PV) means the value today of a sum you expect to receive in the future. It is based on the time value of money — the idea that money today is worth more than the same amount tomorrow.

PV Formula

PV = Future Value / (1 + r)^n

Where:

  • FV = Future Value
  • r = Discount rate (interest rate or required return)
  • n = Number of periods
Present Value

Example of Present Value

If you expect to receive $100,000 one year from now and your required return is 7%, then:

PV = 100,000 / (1 + 0.07)^1 = $93,458

So, $100,000 next year is worth $93,458 today.

Why PV Matters

PV helps you compare today’s money with future cash flows.
It’s useful for:

  • Deciding between future and current payments
  • Valuing bonds, savings, or receivables
  • Financial planning and investment analysis

What Is Net Present Value (NPV)?

Net Present Value (NPV) goes a step further. It compares the total present value of inflows with the initial investment (outflow). It helps you decide if a project or investment adds real value. When you compare Net Present Value vs Present Value, NPV tells you whether an investment creates value beyond your initial spending.

NPV Formula

NPV = Σ [ Rt / (1 + r)^t ]

Where:
  • Rt = Net cash flow at time t (negative for investment, positive for returns)
  • r = Discount rate
  • t = Time period

Example of Net Present Value

You invest $5,000 today and expect $10,000 after 5 years. Discount rate = 10%

PV of inflow = 10,000 / (1 + 0.10)^5 = $6,210
NPV = 6,210 - 5,000 = +$1,210

A positive NPV means the investment is profitable.

Net Present Value

PV vs NPV: The Key Differences

FeaturePresent Value (PV)Net Present Value (NPV)
What it showsValue today of future moneyValue added by an investment
Includes investmentNoYes (includes outflow)
Use caseValuing a single paymentEvaluating full project
Decision ruleNoneAccept if NPV > 0

Step-by-Step Calculation Example

Let’s say a project has these cash flows:

  • Year 0: Investment = $20,000
  • Year 1: Inflow = $8,000
  • Year 2: Inflow = $10,000
  • Year 3: Inflow = $7,000
  • Discount rate = 9%

Step 1:
PV (Year 1) = 8,000 / (1.09)^1 = $7,339
PV (Year 2) = 10,000 / (1.09)^2 = $8,418
PV (Year 3) = 7,000 / (1.09)^3 = $5,405

Step 2:
Sum of PVs = 7,339 + 8,418 + 5,405 = $21,162

Step 3:
NPV = 21,162 – 20,000 = +$1,162

Because NPV is positive, the project adds value.

NPV vs PV

Why PV and NPV Matter in Decision-Making

Understanding Net Present Value vs Present Value helps you make smarter business and financial decisions.

  • PV shows what your future returns are worth today.
  • NPV shows if a project or investment actually creates value.

Both are key in project management, budgeting, and investment planning.
Using PV and NPV makes your leadership and consulting decisions data-driven and defensible..

Key Takeaways

  • Always use realistic discount rates and consistent time periods
  • PV = Value of future money today
  • NPV = PV of inflows minus PV of outflows
  • Positive NPV → Project adds value
  • Negative NPV → Project loses value

Further Readings

Payback Period, Sunk Cost and Opportunity Cost
Cost Benefit Analysis

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